Variances

Direct material cost variance

• Total material variance = standard material cost of actual production –
actual material cost

• Material price variance = actual quantity used (standard price/kg – actual

price/kg)

• Material usage variance = standard price/kg (standard quantity allowed

for actual production in kg – actual quantity used in kg)
• In case actual quantity purchased and actual quantity used both are
different then consider stock valuation method.

• If stocks (FG) are valued on the basis of STANDARD cost then formula of
material price variance will be
• MPV = actual quantity purchased (standard price – actual price)

• If stocks are valued on the basis of ACTUAL cost then formula of material
price variance will be
• MPV = actual quantity used (standard price – actual price)
Direct labour cost variance
• Total labour variance = standard labour cost of actual production –
actual labour cost

• Labour rate variance = actual hours worked (standard rate/hr – actual

rate/hr)

• Labour efficiency variance = standard rate/hr (standard hours allowed

for actual production – actual hours used)
• In case idle time is also given in the question then labour variances will be

• Labour rate variance = *TOTAL LABOUR HOURS (standard rate – actual rate)

• Labour efficiency variance = standard rate (standard hours allowed for actual
production – actual **PRODUCTIVE hours used)

• Idle time variance = standard wage rate (expected idle time – Actual idle
time)

• * TOTAL LABOUR HOURS include idle hours because labour get payment for idle hours too
• **PRODUCTIVE hours = total hours – Idle hours
Variable overheads variance
• Total VOHD variance = standard VOHD of actual production – actual VOHD cost

• VOHD expenditure variance = actual hours worked (standard VOHD rate/hr –

actual VOHD rate/hr)

• VOHD efficiency variance = standard VOHD rate (standard hours allowed for actual
production – actual hours used)

• In case of idle time, only productive hours will be considered in all overhead
variances because production overheads arise on productive hours or active hours
only
Fixed overheads variance
• Total fixed overheads variance = standard fixed overheads of actual
production – actual fixed overheads cost

• Fixed overhead expenditure variance = budgeted fixed production

overheads – actual fixed production overheads

• Fixed overheads volume variance = fixed OAR/unit (actual production

– budgeted production)
Sales variances
• Sales price variance = (standard selling price – actual selling price) actual
sales volume

• Sales volume variance (absorption costing)

• = (budgeted sales volume – actual sales volume) standard gross profit per
unit

• Sales volume variance (marginal costing)

• = (budgeted sales volume – actual sales volume) standard contribution per
unit
Reasons for variances
Reasons for material price variance
• Purchasing department is responsible for price variance
• Favourable (actual price less than standard price)
• Company might have used cheap quality material
• Company might have changed supplier
• Availability of unforeseen discount
• Overall decrease in price level
• Overall decrease in demand or increase in supply
• Standard might be inappropriate
Reasons for material price variance
• Adverse (actual price higher than standard price)
• Company might have used high quality material
• Urgent purchasing due to poor inventory management
• Overall increase in price level
• Overall increase in demand or decrease in supply
Reasons for material usage variance
• Production department is responsible for usage variance.
• Favourable (actual consumption less than standard consumption)
• Company might have used high quality material
• This might be result of skilled labour
• Proper machine maintenance
• Standard might be inappropriate
Reasons for material usage variance
• Adverse (actual price higher than standard price)
• Company might have used cheap quality material
• Company might have employed unskilled labour
• Lack of proper machine maintenance
• Standard might be inappropriate
Reasons for labour rate variance
• Personnel department is responsible for labour wage rate variance.
• Favourable (actual wage rate less than standard wage rate)
• Unskilled labour
• Low inflation than expected
• Increase in supply of labour
• Inappropriate standard
Reasons for labour rate variance
• Adverse (actual price higher than standard price)
• Use of experienced labour
• Overtime premium or other incentive paid to labour
• Increase in minimum wage rate by government
• Inappropriate standard
Reasons for labour efficiency variance
• Production department is responsible for usage variance.
• Favourable (actual hours less than standard hours required)
• Use of experienced labour
• Use of good quality material
• Better machine or equipment available for the manufacturing
• Improved working conditions
Reasons for labour efficiency variance
• Adverse (actual hours higher than standard hours required)
• Use of less skilled labour or lack of training
• Use of low quality material
• Lack of machine maintenance
• Poor working conditions
Sales price variance
• Change in demand or supply of product
• Different quality of product
• To achieve a targeted sales volume
• Increase or decrease in competition level
Sales volume variance
• Change in price of the product
• Reduction in market share
• Due to discontinuation of complementary product
Types of standards
• Ideal standard
• This is a standard that reflects perfect performance and is the minimum cost that is possible under
ideal operating conditions (for eg no losses, no idle time, 100% efficiency of labour, no machine
breakdown etc). Because ideal standards are unattainable, they are unlikely to be used in practice,
since inability to achieve them is likely to have a demotivating effect on managers and employees.

• Attainable standard
• This standard allows for normal levels of wastage and operation, and represents a cost level
achievable under reasonably efficient working. Attainable standards may be difficult to
achieve, but they do not represent impossible targets for employees.
• An attainable standard is considered to represent the best target against which to compare
current activity and is the preferred standard to use in planning, budgeting and cost control.
Types of standards
• Current standard
• This standard is one established for use over a short period of time and
relates to current conditions.

• Basic standard
• This is a standard that remains unchanged for long periods of time. Because it
remains unchanged, it allows efficiency trends over time to be identified.
Because basic standards do not reflect current conditions, they are of limited
use if current conditions differ significantly from those existing when the
standard was set. They are therefore seldom used.
Factors to decide whether to investigate a
variance or not
• (a) Materiality. A standard cost is really only an average expected cost and is not a
rigid specification. Small variations either side of this average are therefore bound
to occur. The problem is to decide whether a variation from standard should be
considered significant and worthy of investigation. (Reporting by exception)
• Tolerance limits can be set and only variances which exceed such limits would
require investigating.
• (b) Controllability. Some types of variance may not be controllable even once their
cause is discovered. For example, if there is a general worldwide increase in the
price of a raw material there is nothing that can be done internally to control the
effect of this. If a central decision is made to award all employees a 10% increase
in salary, staff costs in division A will increase by this amount
Factors to decide whether to investigate a
variance or not
• (c) The type of standard being used.
• (i) The efficiency variance reported in any control period, whether for materials or labour, will
depend on the efficiency level set. If, for example, an ideal standard is used, variances will
always be adverse.
• (ii) A similar problem arises if average price levels are used as standards. If inflation exists,
favourable price variances are likely to be reported at the beginning of a period, to be offset
by adverse price variances later in the period as inflation pushes prices up.
• (d) Interdependence between variances . Quite possibly, individual variances
should not be looked at in isolation. One variance might be inter-related with
another, and much of it might have occurred only because the other, inter-related,
variance occurred too. We will investigate this issue further in a moment.
• (e) Costs of investigation. The costs of an investigation should be weighed against
the benefits of correcting the cause of a variance.
Are Standards the Same as Budgets?
• Standards and budgets are very similar. The major distinction
between the two terms is that a standard is a unit amount, whereas
a budget is a total amount. The standard cost for materials at
Heirloom Pewter is $12 per pair of bookends. If 1,000 pairs of
bookends are to be manufactured during a budgeting period, then the
budgeted cost of materials will be $12,000. In effect, a standard can
be viewed as the budgeted cost for one unit of product .